In short, a treaty-based confederation sidesteps the entire zero-sum one-state two-state drama.
For Israel, in particular, confederation deals with intractable issues of Palestinian political sovereignty.
Creating a Palestinian state within a confederation would not increase but actually diminish threats to Israel's security. Having their own state, Palestinian obsession with Israel, the ideological passion about sovereignty, borders and revenge, would shift to ambitions for more prosperous lives with individual dignity. Gaza, now such a special case, could join the Palestinian state immediately combined with the West Bank. If, however, Palestinian unity were impossible, Gaza could evolve over time one way or another.
For Palestinians, entrepreneurial energy and private sector business development would stimulate the growth of a more complex civil society connected to the wider world. A Palestinian state that issues internationally recognized passports permitting its citizens to freely visit the world would change the mind-set of young and old generations alike.
Speculating even further ahead, the confederation could encompass not just Israel and Palestine but, sooner or later, Jordan as well. Stimulating Jordanian economic and social development is a good in itself. Security across the entire confederation could be guaranteed by a combination of sovereign Israeli military and police forces, a Palestinian internal police force, a Jordanian participation, and overlapping security guarantees in the form of international boots on the ground: the US, UN and NATO (including Turkey). Jordanian domestic political reform would be de-dramatized.
A more cosmopolitan Israel can afford to deal differently with the Palestinians, who have by now suffered and been punished enough for disastrous policies of the past.
Israel would win its war well if a Palestinian state were created not against Israel's will but sponsored and even mentored by Israel.
Inevitably, new international esteem would follow. The high cards are in Israeli hands.
